The Two Branches of Macro-Economic Theory: Thinking Like a Macro-Economist

Macro-economics is perhaps the most divisive area of economics when applied to political decision making, and macro-economists divide themselves into different schools of thought. Two of the biggest camps are the Keynesians and the Monetarists. Keynesians and post-Keynesians follow the theories of John Maynard Keynes, the most-celebrated economist of the 20th century who proposed that government stabilize the economy with the use of fiscal policy. Monetarists, on the other hand, follow the teachings of Friedrich Hayek. For this assignment do some research on the ideas of Keynes and Hayek. Focus on the "big picture" of what their main ideas are and how they have influenced policy makers. Then write a 3 to 4-page paper addressing the following questions:

1. Compare and contrast what policies Keynes and Hayek advocated regarding how the federal government should manage the economy. (Note: There is no need to include biographical information about their lives)

2. Explain one real-world event that counters the theories of each of the following: Classical, New Classical, Keynesian, New Keynesian, and Monetarist.

3. Explain one real-world event that supports the theories of each of the following: Classical, New Classical, Keynesian, New Keynesian, and Monetarist.

4. You have learned that Keynes and Friedman sharply differed on some basic ideas of how the Federal government should conduct economic policy. Which of the two economists do you agree with more, and explain why.

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What I will do is give an outline for a good answer for each question, taking one at a time. These are just basic outlines and, of themselves, are NOT complete answers.

Compare and contrast what policies Keynes and Hayek advocated regarding how the federal government should manage the economy. (Note: There is no need to include biographical information about their lives)

JMK: The single slogan that can easily summarize Keynes is this: investment and spending are NOT correlated or connected. They are separate and must be treated as such. Spending is a function of households, and these are, mostly middle and lower class people. Investment is normally done by a much smaller group of upper class people. There is a general tendency for lower class people to keep their money in cash, to spend only when they can. This means that savings can go down when investment wants to increase (due to an upswing of the business cycle, etc), in which case, unemployment results. Once this happens, production falls even further, leading to more poverty and misery.

The big point to make is that the unemployment cycle can lead to total misery and poverty if not corrected. The corrector to this is the state (the government at some level). Since the state is not subject to economic laws (it makes its money through coercive taxation), it can fill the gap by spending money. This, to be glib, means that the state holds respond to these situations by putting as much additional money into the consumer's pocket as possible.

The policy consequences of this are pretty clear: this is the purpose of welfare, unemployment insurance, infrastructure development, etc. The state must do this to get the population spending again. Once this happens, people will start to get hired again. He really hates the idea of too much savings, since this takes money out of circulation, out of the economy.

FH: Famed supporter of the free market. Unlike the older market writers, FH deals not so much with the products the economy creates, but individuals who make specific decisions to buy x over y. His big ...

Solution Summary

The branches of macro-economic theory and thinking a macro-economist are determined.